Mutual funds have become a popular investment option, especially among the youth. One of the main advantages of mutual funds is the ability to invest small amounts repeatedly, which gives investors flexibility. A common question among those considering investing in mutual funds is how much of their salary should be allocated to these investments. In this article, let’s test the question based on conventional financial wisdom.
There are three different areas where your income should be distributed: spending on living expenses, saving for emergencies (emergency fund), and investing for the long term. If you have health insurance and rent-free housing, you should have an emergency fund for at least 6 months of expenses. However, if you have to pay rent and live in an area with a high cost of living, it is recommended that you have at least 1 year of emergency expenses saved up. Once you set up an emergency fund, you can start investing a portion of your salary in investments like mutual funds.
Ideally, financial experts recommend putting at least 30% of your salary into investments every month. This ensures that your wealth grows over time and you can build a decent size corpus by the time you retire. However, mutual funds are only one type of investment among many, and for the sake of diversification, you should not invest more than 50%-60% of your total savings/investments in mutual funds. However, the final choice to decide how much you want to invest in mutual funds is in your hands. Another important thing to note is that as your income grows, you should try to keep your expenses consistent and not out of control. This allows you to keep your growing income higher than the recommended 30% for investments like mutual funds.
Investing in mutual funds can provide returns that exceed inflation. Inflation reduces the cost of money or investment over time. To maintain the value of your investment, it is important to earn a return that exceeds inflation, which can be achieved through mutual fund investments. Mutual fund investments can be useful in financial planning for the future, especially when held for longer periods such as five years or more. Compounding effect and long-term investment in mutual funds in favorable market conditions can yield good returns, which can reach 15% to 18% per annum.